Corporate dividend decisions

Abstract

The main aims and objectives of my thesis are to test the various conflicting hypotheses developed in the previous literature to explain firms’ dividend policy, focusing specifically on IPOs and cross-country analysis. In particular, I explore the theoretical links in the context of the important dividend theories including signalling, agency costs, lifecycle and catering and then empirically test the hypotheses by using a very large dataset of UK IPOs from 1990 to 2010, which is extracted from offering prospectuses.

The first empirical study focuses on two aspects of post-IPO decision-making: the decision to initiate dividends and the timing of dividend initiation. I develop the testable hypotheses by linking the dividend decisions of IPOs with a number of firm characteristics and IPO-specific factors in the context of the theories relating to dividends and IPO. I find a strong negative relation between underpricing and the propensity of dividend initiation. This finding is in line with the implications of Dividend Discount Model and Rock’s (1986) “winner’s curse”. My results show that the likelihood of initiating dividends is positively associated with managerial ownership, underwriter reputation, firm size, profitability and long-term debt ratio. In addition, the results show that the initiation propensity is negatively influenced by a serial of factors including the length of lockup period, VC backing, managerial stock option, growth opportunities of IPOs, technology intensity, and selection of growth stock exchange (i.e. AIM). Finally, I find that the IPOs issued in the years when the market put a price premium on dividend paying payers are more likely to pay dividend after IPO and initiate dividends earlier. Overall, my results show that IPO characteristics relate to dividend decisions of IPOs through miscellaneous mechanisms of dividends. The most homogeneous results are associated with the life cycle and catering theories. There is also some empirical evidence in support of signaling and agency theory.

The second empirical study examines the determinants on the dividend policies stated in IPO prospectuses. At the stage of preparing for IPO, pre-IPO financial status is very likely to influence the initial dividend policies. My results provide strong evidence that IPOs that experienced superior performance in profitability and cash inflow from operating activities during pre-IPO period tend to make active dividend policies relatively, consistent with the implication of Lintner (1956) and Benartzi, Michaely and Thaler (1997). My results also show that IPOs with higher turnover ratio and lower capital expenditures tend to choose more active dividend policies when going public, consistent with residual theory and free cash flow hypothesis. In addition, the possibility of choosing relatively active dividend strategies at IPO stage is negatively associated with VC backing, length of full lock-up restriction period, stock option, technology focus, and institutional ownership. In contrast, IPOs with more reputable underwriters tend to declare relatively active dividend policy in prospectuses. The evidence relating to long-term debt ratio and managerial ownership is weak. Moreover, IPOs issued in the ‘internet bubble’ period or in 2000s opt for relatively conservative dividend strategies. The overall results in this empirical chapter support lifecycle theory, substitution assumption-based agency theory and free cash flow hypothesis, while the evidence on signaling and catering theories is mixed.

Furthermore, my results support the conjecture that IPOs with active dividend policies release sufficient information through dividend policies declared in offering prospectuses and therefore their formal dividend initiations fail to shock the market. I find that dividend- paying companies outperform non-dividend paying counterparts during three post-IPO years, indicating that non-dividend initiating IPOs rather than dividend-initiating ones account for the decline in long-run underperformance. Additionally, I find evidence in support of the conjecture that the dividend policies stated in prospectuses communicate the information, and thus reduce the possibilities that outside investors are overoptimistic over the prospect of the invested companies and that managers overstate the pre-IPO financial data at IPO stage.

The third empirical study examines the trends in dividend policies across seven western countries: U.S., Candada, U.K., Germany, France, Japan and Hong Kong. In general, the proportion of dividend paying firms fell significantly from 1989 through to the early 2000s, with the exception of Japanese firms. Thereafter, the percentage reverted slightly in the US, Canada, Japan and in Hong Kong, but continued to decrease in UK, France, and Germany. In contrast, the aggregate amount of dividends increased continuously across countries and firms retained stable dividend payout ratios, and total payout ratios relatively. Share repurchases took over from dividends as the dominant payout method in the US and the increasing importance of repurchases is observed in Canada and in the UK as well. A declining propensity to pay dividends is seen in all the sample countries apart from in Japan, controlling for key firm characteristics.

I find that the likelihood that firms payout dividends or repurchase shares positively correlates with firm’s size, profitability and the ratio of earned/contributed capital, and negatively related to long-term debt ratio. The impact of growth opportunities on payout decisions is not uniform across countries, in line with Denis and Osobov (2008). There is some evidence that cash holdings have a negative relation with the probability of paying dividends and a positive relation with the probability of buying back shares. There is also some evidence that R&D expenditure and technology intensity have a negative influence on a firm’s tendency to pay dividends, but such influence is country-dependent. The effect of M&A on the incidence of payouts is highly country-dependant. For example, US acquirers are reluctant to pay dividends while UK acquirers are more likely to pay dividends.I also examine the determinants of the amounts of corporate payouts. Profitability, growth rate of total assets, and retained earnings are important positive factors in determining dividend amounts. Market to book ratio have a significantly positive effect on both dividend amounts and the repurchase amounts, consistent with Lee and Suh (2011), Alzahrani and Lasfer (2012). Finally, the empirical tests using Lintner model indicate that the link between cash dividends and earnings has weakened, in support of Choe (1990) and Brav, Graham, Harvey, and Michaely (2005). In line with Eije and Megginson (2008), the data demonstrates that dividends are still responsive to earnings. Overall, the evidence in this empirical chapter supports agency cost-based lifecycle theory.